Fund managers vindicated as Sainsbury's/Asda merger blocked

Shares in Sainsbury’s (SBRY) have fallen after the Competition and Markets Authority (CMA) blocked the merger with Asda on which the supermarket had pinned hopes of rejuvenating its business.

The stock fell 4.7% to 215.9p, dropping to the bottom of the FTSE 100, as the CMA issued its final ruling on the proposed mega-merger.

Stuart McIntosh, chair of the CMA’s inquiry group, said the authority had been left with no choice but to block the merger given the impact on UK shoppers.

‘It is our responsibility to protect the millions of people who shop at Sainsbury’s and Asda every week,’ he said.

‘Following our in-depth investigation, we have found this deal would lead to increased prices, reduced quality and choice of products, or a poorer shopping experience for all their UK shoppers.’

Sainsbury’s said it had mutually agreed with Asda to call off the deal, opting not to challenge the CMA’s decision through the Competition Appeal Tribunal.

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The supermarket’s chief executive, Mike Coupe, accused the CMA of ‘effectively taking £1 billion out of customers’ pockets’ with its ruling.

‘The specific reason for wanting to merge was to lower prices for customers,’ he said.

‘The CMA’s conclusion that we would increase prices post-merger ignores the dynamic and highly competitive nature of the UK grocery market.’

The CMA’s blocking of the deal comes as little surprise, after the competition watchdog warned in February of its ‘extensive’ concerns over the merger. The shares have lost a quarter of their value since that provisional ruling.

Sainsbury's forced to face up to problems

The collapse of the merger now leaves Sainsbury’s in a difficult position. Combining with Asda would have seen the enlarged business become the UK’s largest retailer, but the supermarket will now need to find another way to address the attrition of market share to discounters Aldi and Lidl and a resurgentTesco (TSCO).

Jefferies analyst James Grzinic cut his price target from 230p to 200p on the news, removing the 30p he had attached to the small chance of the Asda merger going through.

Grzinic suggested even this lower price target may need to fall further, saying it was based on ‘modest multiples reflecting increasing risks to the forecast outlook at a time when switching losses to market leader Tesco appear to be accelerating’.

‘We suspect that halting this increasingly negative momentum will require a margin reinvestment which is currently not reflected in our model.’

Shore Capital analyst Clive Black, who downgraded the shares to a ‘sell’ after the CMA’s provisional findings, agreed that action on margins may be required.

‘Sainsbury’s management may state that things have not been better operationally but the reality is different and has been for some considerable time,’ he said.

‘Indeed, we find it amazing how sticky Sainsbury’s shoppers are in the face of patchy availability, questionable store standards, uncompetitive check-out experiences and drifting relative pricing; drifting higher that is.’

Tom Stevenson, investment director at Fidelity Personal Investing, highlighted Sainsbury’s shares were now trading at lows not seen since the late 1980s.

‘Sainsbury’s is the sector’s laggard today, struggling to keep up with recovering Tesco and the German discounters Aldi and Lidl, which have won over the middle classes with their narrow but cheap ranges,’ he said.

‘The wait for better times is eased by a decent forecast dividend income but better times may be some way off.’

Fund manager exodus from shares

Few major UK fund managers retain significant positions in Sainsbury's shares, with a number having sold out over the last year, either to bank profits from the shares' rally after plans for the merger were announced, or on fears over the deal collapsing.

Clive Beagles and James Lowen, Citywire A-rated managers of the £3.3 billion JOHCM UK Equity Income fund, in September warned of the risks to Sainsbury's should the deal collapse. They began trimming their position and had sold out entirely by October.

'The merger will take a long time to complete and is not without risk, so we decided to exit the position,' he said at the time. The manager sold his stake held in the Allianz UK Equity Income fund in May.

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